Amid the forthcoming higher capital adequacy requirements that are to be met under BASEL III from as early as July 1, Fitch Ratings says Sri Lanka’s banks may also have to be ready for elevated minimum capital levels as proposed by the last budget.
According to the Central Bank’s minimum capital enhancement plan, Sri Lanka’s licensed commercial banks were required to bring up their Tier I capital level, which mainly consists of shareholder funds, to Rs.10 billion by January 1, 2016 from an hitherto minimum of Rs.5.0 billion.
While a majority of mid-sized and large commercial banks met the requirement, a couple of small-sized banks were given extended time till January 1, 2018 to meet the same.
However according to Fitch Ratings, the minimum capital may again be raised but is uncertain of any time frames.
Having abandoned the banking and finance sector consolidation plan initiated by the former regime, the government last year proposed to increase the minimum capital of licensed commercial banks to Rs.20 billion from the current Rs.10 billion.
The proposal also asked the licensed specialized banks to raise their capital to Rs.7.5 billion from Rs.5.0 billion.
However, according to Fitch Ratings, as many as six small and mid-sized banks rated by them did not meet this requirement by the end of 2016, which demonstrates the dual challenge faced by the banks from BASEL III and higher minimum capital levels, if implemented.
Although the banks are likely to start complying with the BASEL III requirements by July 1, 2017, Fitch Ratings believes most banks will need to raise capital to meet the new Tier I capital adequacy levels by 2019.
“Fitch sees capitalization is a key issue facing the sector, stemming from thin capitalization across state banks and diminishing capitalization across most private banks”, Fitch Ratings said in a special note on Sri Lanka’s banking sector.
The potential for banks to generate internal capital is also limited due to weaker profitability expected this year due to challenging operating conditions stemming from a slowdown in growth due to higher interest rates, taxes and inflation.
In recent times, Sri Lanka’s banks have grown their loan books faster than the growth of their capital, which could put limits on future growth unless new capital is injected. State banks’ internal capital generation particularly remains weak due to substantial dividend pay-outs to the government.
In 2016, three largest state banks returned 76 percent of their profits as dividends.